From the March 2008 issue of Treasury & Risk magazine

Building a Treasury in China

When General Electric Co. hired Charles Cao in 2005, it may not have realized all it was getting. With his many years running treasury operations in China for French telecom giant Alcatel and before that, heading up corporate banking for Credit Agricole Indosuez from there and Paris, Cao clearly embodied all the much sought-after qualities of the elusive finance job candidate for China--bilingual, familiar with both Western and Chinese treasury and banking practices and hands-on experience dealing with both. As it turned out, he represented a ticket to bringing progressive treasury practices to GE's Chinese operations.

Admittedly, the GE name and extensive business presence was no small factor: GE manufactures in China, exports to China and imports from China; its NBC subsidiary is now preparing to broadcast the 2008 Olympics from Beijing. But by installing Cao to run the multinational's three-person treasury team out of Shanghai, GE was recognizing a key component of a best-practices finance strategy for operating in China: a company needs on-the-ground expertise with a track record of doing business with the Chinese banking establishment and regulators.

Over the past few years, GE's corporate treasury and Cao have achieved amazing advances in the multinational's ability to move cash, using a variation of existing entrustment loans to create effective cash pools within China, first for Chinese renminbis (RMB) and then for U.S. dollars. Now, working with the China Construction Bank and the China Merchants Bank,

GE has gained permission to experiment on a micro level with the first functioning cross-border cash pool in China.
For the past year, GE has been able to send limited amounts of excess cash that accumulated in China back to corporate treasury in Connecticut, where it has been used to pay down commercial paper. Later the money is returned to China. "The Chinese banks are working with us. They quickly understood the concepts and helped us gain regulatory and government endorsement for what are common practices in most markets around the world," reports deputy treasurer Dennis Sweeney. "It's a baby step, but an important baby step."

That's the way treasury practices are evolving in China--small, but important baby steps forward in a government-controlled economy otherwise known for its giant strides. The authorities in China are no longer "insular," observes Dave Robertson, a partner in the Chicago office of Treasury Strategies Inc. "They're aware of what's going on in other markets, and they're encouraging banks to experiment and evolve."

After years of global liquidity managers struggling to free cash trapped unproductively in China, what is making the difference in the ability of companies to work more efficiently there? Simply put, both China and the multinationals are getting to know each other's needs better, and while familiarity can sometimes breed contempt, it more importantly brings an all-important level of comfort--and even trust. "On the surface, China seems very complex, but underneath, it is very organized," explains Linda McLaughlin-Moore, product head for treasury services in the Asia/Pacific region for JPMorgan Chase. "China wants to play nice and is looking for opportunities. This is a banking system of knowledge and built to make regulators comfortable with what's happening. This is where having local talent on the ground has been absolutely paramount. Chinese bankers understand the need to move money and are now working with companies to create instruments that are endorsed by regulators."

Progress is not limited to GE. The newest opportunity for liquidity management within China is evident in the Pudong Nine Measures, which will allow cash pooling of foreign currencies within China for companies that qualify, reports Michael Fossaceca, senior vice president and global corporate treasury executive at Bank of America. The program "will improve in-country liquidity management," he suggests. "You will be able to pool foreign currency balances like you can now pool RMB balances." Qualifying is complicated and requires locating a regional headquarters in the Pudong New Area in Shanghai. A qualifying company also must have at least three legal entities and a total investment of at least $3 million in China. But the rewards include fewer restrictions on in-country pooling and easier movement of funds to subsidiaries outside China.

It's getting easier all the time to manage liquidity in China, summarizes Mona Zhong, head of cash management for corporates in China for Deutsche Bank's Global Transaction Banking. Entrustment loans allow companies to move money from one legal entity to another. In a standard entrustment loan structure, one legal entity of a corporation may deposit excess amounts in its account at a bank. The bank in turn may lend the money to another legal entity of that corporation that is short on cash, charging the interest rate agreed by both parties, using the arm's length principle.

The bank may guarantee the loan and take credit exposure, or it may act only as an entrust agent with no credit exposure. Companies using such entrustment loans also are able to increase yields on surplus cash, which otherwise would earn the relatively low fixed interest rate that applies to idle balances in accounts, Zhong explains.

Intel Corp. is another company in China taking advantage of entrustment loans. "Liquidity management is still very much a challenge," says Robert Yenko, the company's assistant treasurer responsible for managing the Asia Pacific region. "You have to be creative and look at innovative ideas like entrustment loans and QDII accounts."

Like GE, Intel maintains a strong local presence with an experienced six-person treasury office in Shanghai--one treasury director who oversees all operations; one treasury manager responsible for daily treasury operations and another for structured products and foreign exchange hedging and three analysts who run day-to-day cash management. To centralize its cash management, Intel relies heavily on a system operating on a single electronic banking platform. "The ability to centralize our cash management function in Shanghai was of notable importance," Yenko explains. "We operate a total of about 14 legal entities spread out in several provinces. We have factories in Chengdu and Shanghai, R&D labs in Beijing and Shanghai, distribution centers in Shenzhen and Shanghai and sales offices in more than 5 cities. The efficiency of managing all treasury operations in one location was a big challenge we had to overcome.

"Even our bank accounts with local banks are ported into this e-banking system by way of a system alliance which we forged between the banks to give us more productivity," Yenko explains. "We use electronic funds transfers as much as we can for faster delivery."

Perhaps surprising to some executives, electronification of payments and money flow is relatively common in China, making the Asian giant much more akin to South Korea and Japan than other countries in southern Asia, including India. An advantage for China: the lack of legacy systems and an insatiable appetite for technology that brings efficiency, aids data collection and makes China more competitive against its neighbors. "China is a good example of an emerging banking system that has leapfrogged some of the older, more sophisticated banking systems by embracing new, high-tech infrastructure for electronic payments," argues JPMorgan's McLaughlin-Moore. "Most transactions are done electronically in China."

China's real time gross settlement system, CNAPS (China National Automated Payment System) is now nationwide, reports global treasury consultant Susan A. Hillman, a partner in the Treasury Alliance Group LLC. CNAPS includes a high-value payment system and a batch-entry payment system that is used mainly for low-value clearing (under RMB 20,000). Nationwide check clearing using check imaging became available in the summer of 2007. Additional functionality, such as direct debits within batch-entry clearing, will be rolled out by the end of 2008, creating something very much like a conventional ACH system, according to Hillman.

Good technology and shrinking regulation are producing success stories. "We helped one Swiss electrical equipment company with 30 subsidiaries set up a shared services center in Xiamen to centralize their payments, leveraging their SAP technology," reports Jess Villarina, vice president and senior regional sales manager for global payments and cash management at HSBC. "Twenty-six of their subs have banking relationships with us. It was a significant streamlining initiative."

But it's not all smooth sailing for corporate treasurers. Precise cash forecasting in China can still be a real challenge, notes John Nypaver, manager of global cash management at Eastman Chemical Co., based in Kingsport, Tenn. Fat idle balances still sit in Eastman accounts. "We send dollars to China to cover working capital gaps, but it takes two to four days for the money to post to the account, so we play it safe and keep high balances," he reports. "We don't have a lot of influence over our suppliers, who expect to be paid faster than our customers pay us, " he explains. "When a tax payment or a duty is due, it is not as predictable as you might expect."

Greatly complicating cash visibility and liquidity management is the sheer number of specialized bank accounts required for treasury operations in China. You will need one type of account for payroll and petty cash, and a different account for capital, explains Ali Agha, corporate sales manager-Americas in Deutsche Bank's global transaction banking, and these accounts must be used only for designated activities. For payroll, basic accounts typically are opened close to operations. You can also use this basic account for all types of receipts and payments. It is the only account from which you are allowed to physically withdraw RMB. Tax payments could be made from this account, although the authorities reserve the right to determine the type of account, branch and bank you use for tax payments, he notes.

Typically, sweeping funds from one type of account into another type of account is forbidden. "There is a great deal of formality that you must follow," Agha notes, adding that this is especially true for foreign exchange accounts.
"You absolutely need more accounts to manage money in China than in western countries," Treasury Alliance's Hillman says. "We have clients with 90 separate accounts. It seems absurd at first, but you get used to it. Companies will never be able to get by with just one account in China; two to five per legal entity is the absolute minimum."

Global banks are aggressively marketing products that can reduce regulatory inefficiencies. "It is possible to mobilize money and earn a decent return on cash," explains JPMorgan's McLaughlin-Moore, "but we have to work harder to get results. There is a range of well-defined investment vehicles that can be used to maximize liquidity and enhance investment yields. The most sophisticated treasury operations are using these tools." However, China has nothing like ZBA sweeps or a Merrill Lynch Money Market fund, she concedes.

A new liquidity wrinkle in China is a move by the central bank, the People's Bank of China, to limit 2008 loans to 2007 levels, leaving less liquidity for multinational corporations and putting a premium on tighter liquidity management. That limit, for example, has put some companies in a cash bind and led to efforts to accelerate receivables and stretch payables.

To work around this, a few U.S. companies, with aggressive growth strategies, are pursuing closer partnerships and joint ventures with Chinese counterparts in order to achieve expansion goals. With plans to double its presence in China over the next four years, Air Products & Chemicals, for example, has said it is considering a reduction in its reliance on foreign banks for working capital and project loans. "Given that the Chinese banks have a greater deposit base, it makes sense to seek their support on a continuous basis," says Murray D. Hamilton, assistant treasurer at the Allentown, Pa.-based industrial gases and chemicals supplier.

Of course, it's not state-of-the-art treasury tools that are driving multinational corporations to China. The business opportunities are irresistible, so treasury management simply becomes a necessary evil. While improvements are real and continuing, U.S. executives working there realize all too well the challenges of operating in a Communist country are likely to be a factor for many years to come. "Nothing in China is black and white, clean and easy," Hillman notes. "It's very nuanced and rooted in Chinese culture."

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